The psychology of speculation

by Henry Howard Harper

No matter what anyone may say or think to the contrary, there is no business or profession on earth in which a higher degree of honor and business integrity prevails than among the brokers on the floor of the New York Stock Exchange; and there is no business or profession in which sharp and unethical practices among its members are more quickly detected, or more promptly and summarily dealt with. And by way of passing comment it may be remarked that the going price of $150,000 for a membership on the New York Stock Exchange would seem to imply that the brokerage business is no less profitable than it is honorable. In its certificates of membership the New York Stock Exchange declares itself to be “An institution whose history dates back to 1792, and whose rules and regulations have been formulated for the purpose of maintaining high standards of honor among its members, and for promoting and inculcating just and equitable principles of trade.” And it is required of every member that in every particular he live up to these principles. It is a place where a nod of the head or a lifted finger consummates transactions involving millions of dollars. In ordinary business affairs a deal wherein only a few dollars are concerned is signed, sealed, witnessed and sworn to before a notary; but here contracts involving millions are ratified by a mere gesture, and never questioned by either party.

Every buyer or seller of stocks is a free agent to do as he pleases, and if he gets hoodwinked through the stock exchange it is generally because in trying to outwit or undo somebody else he overreaches himself and falls into his own snare. The only percentage against him is what he pays in commissions and taxes on his trades; and the only chances against him are his own blunders in judgment; these, indeed, are likely to prove a sufficient handicap. Every corporation whose securities are listed on the stock exchange is obliged to make a full and comprehensive report to the exchange at least once a year, and these reports can be found in any brokerage office; they are always open to public inspection, and no one need buy any stock or bond without first satisfying himself regarding the nature of the industry, capitalization, earnings, management and other details. Moreover, if at any time a purchaser becomes dissatisfied with his investment and wishes to get his money back or change into something else, there is always a ready market for the stock. It may be more, or it may be less, than he paid for it, but in either case it can be quickly converted into cash.

The investor in stock market securities may equip himself, free of cost, with full information concerning every listed security; what the company’s earnings have been over a period of years, how much stock and how many bonds are outstanding, the highest and lowest prices at which the stock has ever sold, and all such matters in the fullest detail. He therefore enters “the game,” as the stock market is oftentimes called, with his eyes open, and the cards all faced up on the table. But if he deviates from sound principles and resorts to dabbling in stocks that he knows nothing about, except from hearsay among traders and market tipsters, and undertakes to guess the maneuvers of cliques who are manipulating them, he has no one to blame but himself for indulging in such an expensive folly.

BOOKS TEACH WISDOM, BUT EXPERIENCE IS A
MORE PRACTICAL INSTRUCTOR

It may be set down as an axiomatic truth that no one can learn the art of making money in the stock market by reading statistics, charts, precedents, theoretical disquisitions and instructions. Of course it is not needful, nor would it be any more practicable than it is necessary, to set forth any fixed rules or maxims governing one’s procedure in any other line of business or any other profession, since no one could use them advantageously without the requisite qualifications, such as adaptability, shrewdness and practice. Hundreds of different combinations of cards are laid out in books of instructions on auction bridge, with explicit directions as to how to bid and play the hands, yet nobody ever heard of a good bridge player being made solely from book instruction. One reason is that there are actually millions of combinations of cards. Also in stock trading there is an indefinite number of needful “don’ts” which the most resourceful person can neither contemplate nor anticipate. Every stock market cycle shatters some precedent; every era produces new phenomena. Everyone who has ever studied a book of instructions on how to play golf knows how impossible it is to take up any golf club and make it perform according to schedule. A firm stance, feet well apart, body under full control, the right knee stiff, the left arm almost rigid as it follows the right in a low backward swing; and most important of all, the eye firmly fixed on the ball, while the club whips through the air, and after lifting the ball, follows on through, carrying both arms forward to their full length, and many other things which I never could do, and cannot now recall; all these directions the would-be player will learn as he knows his A, B, C’s; but in his intense eagerness to swat the ball he disregards most, or all, of the stated essentials, and at the moment of impact, while his club is ploughing up the sod two or three inches behind the ball, his eyes are cast heavenward in fervent anticipation of watching its flight. Likewise the speculator figures his profits long before they materialize. The most important thing in golf, and the hardest thing to learn, is to keep the eye on the ball while in the act of hitting it; and the hardest thing to learn in stock trading is to keep the eye off the market, hold firmly and patiently to good resolutions, and not try to get rich too quickly. Both look to be easy, but—

Reducing the whole problem to its simplest form, the stock exchange is a well-organized and honestly conducted market-place where anyone may sell or buy investment or speculative securities, at whatever price anybody else is willing to pay or accept for them. There is no more mysticism about the exchange itself than there is about a book auction room, or any other auction room where articles of merchandise are offered at an upset price, or auctioned off to the highest bidder. A man who buys stocks or bonds for investment is not gambling with anybody that they will go up or down; he buys them because he wants to invest his money and get interest or dividends on it. If a stock bought at $100 a share, paying seven per cent. annually in dividends, should increase in market value to $150 it is obvious that the rate of interest on the total capital is correspondingly reduced, and that whereas his original $10,000 brought a return of seven per cent., the capital of $15,000 is earning a net return of only four and six tenths per cent. Under such conditions it is oftentimes wise to sell out and reinvest the money in other securities which bring a larger net return; or if stocks in general are too high, put the money in the bank and wait for lower prices. The $5000 gain in capital will surely more than cover interest on the original $10,000 investment during the time one has to wait for good buying opportunities.

This reminds me that some years ago, when Calumet & Hecla Mining stock was selling at $850 a share, on which amount it netted only a small dividend return, I asked a friend (who owned a large amount of the stock) why he didn’t sell it and reinvest in other securities. My argument was that the stock having already declined from $1000 a share, would probably go much lower, considering that the earning capacity of the mine was in all probability as great as it ever would be; therefore the chances were more in favor of a decrease than an increase in earnings and dividends. To all of which he readily assented, but in view of the fact that he had bought the stock at $50 a share it was paying a very high rate of interest on his original investment; and for sentimental reasons he preferred to keep it,—which he did. Such instances are not at all uncommon; nor is it uncommon to hear intelligent business men remark that they know they ought to sell certain investment securities, because the market price has risen out of all proportion to the income yield, but other good securities are all so high that they really don’t know what to put their money in. The chances are probably a hundred to one that if the money were put in the bank and allowed to rest a while at three per cent. interest, it could within a few months be reinvested in the same securities, or other equally good ones, at a net gain of three to five years’ interest, or even more. This is not stock gambling; it is merely business prudence.

WHIMS AND FALLACIES IN SPECULATION

Traders and investors too often become stubbornly insistent on recouping their stock market losses in the same identical securities in which they lost their money. After having lost a large sum of money there is undoubtedly a special gratification in seeing it return by the same channel through which it escaped, but the enjoyment of this peculiar satisfaction is hardly commensurate with the risk that many people run in attaining it. In discussing this point some years ago with a friend who owned a thousand shares of stock in a bankrupt railway company which had cost him $50 a share, and was then selling at $15 a share, with a fifty to one chance that the road would go into receivership, I argued that while the loss of $35,000 was a large and bitter pill to swallow, the chances were that it would not be made smaller or more palatable by the inevitable receivership, and that he might as well salvage what he could from the wreckage of his investment. After all, there were dozens of really good stocks that had declined more than $35 a share; stocks that would eventually “come back” when the market turned about; whereas with his stock there was a probable assessment of $10 to $15 a share staring him in the face, and after paying that, the stock was likely to sell at a figure less than the assessment to be paid, judging by past performance of the stocks of other companies in receivership. The road was tremendously over-bonded, over-capitalized, encumbered with every conceivable sort of debt, and not earning its fixed charges. He vehemently declared,—“No, I’ll be damned if I’ll allow those thieves to do me out of that money; they shall pay it all back, and more with it!” He held tenaciously to his resolution, the road fell into receivership, and a few months later he could have bought the stock in the open market at two dollars a share less than he had paid in on the assessment.